What is IR35? A quick guide for contractors
If you are contracting, you would have heard of IR35 or the “Intermediaries Legislation”. If you are new to contracting and haven’t heard of IR35 before, it is a piece of legislation – introduced in 2000 and adjusted over the years – that determines how contractors pay taxes.
IR35 is aimed at contractors who operate through intermediaries, i.e. Personal Service Companies (PSCs) otherwise known as limited companies.
It’s important that you familiarise yourself with IR35 to avoid potential HMRC tax investigations and penalties for not abiding by the legislation.
What is IR35?
IR35 was created with anti-tax avoidance in mind. As contractors and freelancers working through limited companies are able to pay themselves through a combination of salary and dividends, HMRC had to come up with a way of making sure they paid the right amount of tax.
The way this is done is by a test which determines whether a contractor’s assignment falls ‘inside IR35’ or ‘outside IR35’. These are defined as follows:
- Inside IR35: you are a ‘disguised employee’ and you are operating within the legislation. Effectively this means you work as a contractor but the actual work you do is similar to a regular employee, meaning you should pay the same amount of tax as one.
- Outside IR35: you are ‘genuinely self-employed’ and operating outside the legislation, hence ‘outside’ IR35. This means that your working circumstances show that your work is different enough from that of a regular employee that you are able to pay your taxes as a self-employed person.
How do I know if I am inside or outside IR35?
If you work in the private sector through your own limited company, you are (for now) able to determine your own IR35 status based on your contract and working circumstances. However it is still recommended to get a professional second opinion if you are unsure. This way you can avoid a retrospective tax investigation.
Working in the public sector, such as a government-operated organisation, is a different story. Rules that came into effect in April 2017 dictate that a contractor working in the public sector through their own company cannot decide their own IR35 status. This responsibility is left to the end-client to determine on a case-by-case basis.
Most public sector contracts fall inside IR35, therefore if you are taking on a public sector contract role chances are you will be caught by IR35. If this is the case, it will be more worthwhile to either work through an umbrella company or look at other options such as negotiating a higher rate from your client or moving to the private sector.
How is my IR35 status determined?
Three key factors that help determine your IR35 status are control, substitution and mutuality of obligation. We explain:
- Control: how much control does your end-client have over how, when and where you complete the work set out in your contract?
- Substitution: can you, or must you, send someone else to complete your work in your place if you are unable to?
- Mutuality of obligation: is your client obligated to give you work and pay you for it and are you obligated to accept?
These tests help indicate whether or not the work you do is similar enough to regular employees to place you within the legislation.